The Push to Tax the Rich

A federal employee organizer at a rally protesting the government shutdown.
Photograph by Jim Watson/AFP/Getty Images

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“Tax the rich, feed the poor, till there are no rich no more.”

Alvin Lee of Ten Years After appears to have been prescient in the British blues band’s sole hit single, “I’d Love to Change the World.” The 1971 tune anticipates what may emerge as the Democratic Party’s economic policy plank for next year’s presidential campaign.

First came the proposal for a 70% top marginal tax rate on incomes over $10 million floated by Alexandria Ocasio-Cortez, the newly elected 29-year-old member of Congress from the Bronx and Queens and an avowed democratic socialist. Not to be outdone by AOC, as this rising star on the left is known on social media, Sen. Elizabeth Warren of Massachusetts unveiled a plan for a wealth tax of 2% on assets over $50 million and 3% on fortunes over $1 billion.

Clearly, the aim of these taxes is to rake in a lot of dough for government. The schemes, at least in part, are based on the Willie Sutton school of public finance—you take from the rich because that’s where the money is. Warren, who has set up an exploratory committee for a 2020 presidential run, says her wealth tax would raise almost $3 trillion over 10 years. But the avowed aim of these levies is also to reduce inequality.

And rarely have the uber-wealthy been such a fat, tempting target.

Before the White House and Congress declared a truce Friday that will at least temporarily end the partial shutdown of the federal government, Commerce Secretary Wilbur Ross wondered aloud why some of the 800,000 workers about to miss a second fortnightly paycheck might have to resort to food banks. They should get loans, since “the obligations that they would undertake—say, borrowing from a bank or credit union—are, in effect, federally guaranteed,” he said in a CNBC interview. In other words, “Can’t we all just get a loan?” as Jimmy Kimmel quipped.

It didn’t occur to Ross (whose financial disclosure forms show he is worth a mere $700 million net and isn’t a billionaire, as he’s typically described) that some folks might be up to their credit limit and may also have other debt they’re struggling to pay. And that the interest rate might be more like 18%, instead of the 2% on T-bills.

Paying even small unexpected expenses remains a challenge to many. According to the Federal Reserve’s most recent study of consumer finances in 2017, four in 10 Americans would have difficulty meeting a $400 emergency expense—far less than any household’s monthly outlays when no money is coming in. And of those who did have trouble meeting that emergency, most did follow Ross’ suggestion: Fifty-eight percent said they would use a credit card, a loan or line of credit, or a payday advance or overdraft to meet obligations. And his billionaire boss, President Donald Trump, advised that grocery stores would “float” federal workers until they got paid. I haven’t seen a “float” checkout line at my local Stop & Shop, however.

The real importance of AOC’s 70% top marginal income-tax rate and Warren’s wealth tax isn’t that they are likely to be implemented. That would require a radical takeover of the White House and Congress by left-leaning Democrats in 2020. The proposals, however, do show that the political and economic pendulum has swung from the opposite side of where it was four decades ago. California’s Proposition 13 was passed in 1978, a precursor to the Kemp-Roth tax reduction that formed the basis of Reaganomics (along with the sound-money policies of the Volcker Fed that crushed double-digit inflation).

Now, these Democratic proposals would do the opposite and more: Raise the top marginal income-tax rates to pre-Reagan levels, while introducing a wealth tax, something unprecedented at the federal level. Modern Monetary Theory would complement these measures by simply issuing the currency to cover deficits already exceeding $1 trillion annually.

We are a long way from Jimmy Carter’s 1977-1981 malaise of stagflation, double-digit interest rates, and a Dow Jones Industrial Average under 1000—lower than it had been in November 1972, when it first topped triple digits. Despite a current economic nirvana of unemployment under 4% and inflation around 2% that would have been unimaginable in Carter’s day, the benefits of a Dow that’s soared 24-fold haven’t been evenly shared. At the same time, the U.S. economy has become more dependent than ever on asset values, and especially stocks, for better or worse. And whatever the perceived pluses of the Democrats’ increased taxes on incomes and wealth on what Warren calls the “tippy-top” of Americans, enhancing asset values aren’t among them.

According to a recent research note from
Goldman Sachs,
the wealth of, and spending by, not just the very wealthiest Americans but also middle- and upper-middle-income households have become tied more closely to the stock market. That’s contrary to the standard economic assumption that the “wealth effect” from moves in stock prices should be diminished since so much equity wealth is now in the hands of the tippy-top, who can readily absorb a hit from a bear market without cutting back.

The wealthiest 0.1% of households account for 17% of the stockholdings of all households, while the top 1% own 50%, according to Goldman’s parsing of Fed data on consumer finances. Those percentages are up from 13% and 39%, respectively, in the late 1980s.

Relative to their incomes, all households’ stockholdings have tripled. As a result, for the top 10%, the impact of a 1% drop in equity prices is now three times as large as it was in the late 1980s, according to Goldman. Even for the upper middle-class (those in the 50th-90th percentiles), the impact of stock price declines is one-third greater. As a result of an 11% decline in equities from their September peak until Jan. 15 (the date of the report), Goldman economists expect 2019 gross-domestic-product growth to decline by 0.5 of a percentage point.

Were the ultrarich to have to render unto President Warren under her proposed wealth tax, they presumably would have to sell liquid assets. Some billionaires might simply write a $30 million check (3% of $1 billion), but it’s more likely that most would unload some liquid stocks or bonds, rather than putting a Palm Beach mansion, a Hamptons house, or one of those skinny high-rises on Billionaires Row in mid-Manhattan up for sale. In addition, assessing the value of some of their assets might be a bit problematic. (“That old Mercedes 300SL Gullwing? Can’t be worth more than a few thousand bucks.”)

The impact of a 70% top marginal tax rate could actually be positive, as Barron’s Matthew Klein concluded last week. Taxing wealth, meanwhile, is unlikely to be positive for asset prices, which could have a negative effect on spending and GDP, as Goldman’s economists suggest.

In any case, the debate is certain to become increasingly intense as the 2020 election approaches, and it’s sure to become an important focus for investors. In the meantime, Alvin Lee’s refrain seems apt:

“I’d love to change the world, but I don’t know what to do. So I’ll leave it up to you.”

What to Watch at the Fed

Friday’s news of the end of the partial federal shutdown helped the Dow Jones Industrial Average notch its fifth straight weekly gain, if only barely. (The Dow is up more than 10% over those five weeks.)

Arguably more important to financial markets was a Wall Street Journal article reporting that the Fed may end the runoff of its balance sheet sooner than currently anticipated, leaving it with a bigger portfolio of U.S. Treasury and agency mortgage securities and ensuring more liquidity in the financial system.

No actions are expected at the two-day meeting of the Federal Open Market Committee that winds up on Wednesday, but the key will be the panel’s policy statement and Fed Chairman Jerome Powell’s press conference (one will now follow every Fed meeting, rather than every alternate gathering). After December’s one-quarter-percentage-point increase in the key federal-funds range, to 2.25%-2.50%, there never was an expectation of a similar increase anytime soon. Just the opposite—the fed-funds futures market had begun to price in a chance of a rate cut in early 2020 as slides in stocks and speculative-grade bonds suggested rising recession fears.

Then, on Jan. 4, Powell changed his tune. In an appearance in Atlanta, he said that the central bank would be “patient” in tightening monetary policy, a shift from the December FOMC statement that “some further increases” would be appropriate. He also said that the Fed would change the pace of balance-sheet reduction, which Powell previously said was on “autopilot.”

The best justification for a policy pause would be to assess the impact of the government shutdown, which will affect economic data in various ways. While the Commerce Department was shuttered, data such as retail-sales totals weren’t released, leaving data-dependent policy makers less to go on. January’s employment report is due out Friday, as usual, and the numbers may be affected by the shutdown, as noted here a couple of weeks ago.

The Fed’s shift in verbiage earlier this month is one of three “puts” that
Deutsche Bank
macro strategist Alan Ruskin sees as providing insurance against declines in risk markets. In addition to the “Powell put” resulting from the U.S. central bank’s sensitivity to financial conditions, Ruskin also points to a “widely perceived” “Trump put,” owing to the U.S. administration’s attention to stock prices, especially as they affect its negotiating power with China. Finally, Ruskin points to a “Xi put,” as the bank’s clients see a “line in the sand” at 6% Chinese economic growth. Given this array of puts, you might say that failure is not an option for the markets.

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